My investment colleague and I have been following Intrepid Potash’s ( IPI) journey for over a year. We posted an early article when the stock was priced for bankruptcy and shares were trading around $1.09. It has since hit a new 52-week high above $5 a share, then fell to down to $3.30 after the latest earnings report, which we noted was actually a strong quarter for the company.

We are back again, because we still believe that the assets and future cash flows of IPI are still meaningfully under-appreciated by the stock market. We attempted to publish this article earlier this week when a big seller presented a short-term buying opportunity near $4 a share, but despite the delay and run-up, still think the $5 per share level is extremely attractive. Higher Oil Prices to Drive Even Higher Cash Flows

• Higher Oil Prices Puts Upward Pressure on Potash Prices: The potash industry is significantly more concentrated than OPEC and oil. The top four producers (WSJ, paywall) of potash control almost 60% of potash production, compared to 40% of oil production for OPEC. Nutrien, Mosaic, Belaruskali, and Uralkali all have their primary potash facilities in Canada, Belarus or Russia. Higher oil and gas prices drive up transport costs from our competitors in Canada and overseas.

This naturally puts upward pressure on potash prices, from which IPI benefits because its transportation costs are relatively lower. Furthermore, any potash price increase will largely flow through to profits and cash flow, since IPI’s production costs are largely fixed. Every $10 increase in potash prices could drive approximately $4mm in increased profitability.

• Growing Output in Permian Basin to Drive Increased Water and Oilfield Services Revenue and Profits: Higher oil prices and production in the Permian basin means increased demand, and likely increased pricing, for IPI’s products and services to the oil and gas industry. Note that the Permian is facing shortages up and down the supply chain — it’s a great time to be a supplier.

These newer IPI business lines have high gross margins and are expected to meaningfully drive free cash flow growth going forward. IPI’s water sales alone were estimated at $20-30mm for 2018 when oil was around $40 a barrel, with an 85% to 90% gross margin. $30mm in water sales annually represents close to only 25% of IPI’s water utilization, giving the company upside potential in both price and quantity of water sales.

• Allow Incremental Revenue to Drive Higher Incremental Profits: Over the past couple years, IPI has built an incredible amount of operating leverage by rationalizing costs and making smart investments, for example closing underperforming mines, increasing brine sales and rationalizing headcount. We expect that the profit margin on incremental revenue is likely to be higher going forward than looking back. We believe the stock market doesn’t fully realize that a significant share of any price increases going forward will likely be going to IPI’s bottom line.

If you look at the components of Trio, as we have said many times, Trio is composed of 42% SOP and 58% magnesium sulfate. So if you were to take those two components, those two are trading, the percentages of those two components are trading at about $120 to $130 premium over Trio. -CEO Bob Jornayvaz

Given that IPI can produce 400,000 tons of Trio, a $100 per ton price increase can drive $40mm in increased cash flows per year. Arguably, the market is valuing Trio at near zero at the current stock price levels. What is IPI Potentially Worth?

We think a 10x market multiple off cash flows is fair given the company has $300mm in deferred tax assets yet to be recognized on its balance sheet and artificially high depreciation compared to capex, as well as increasing contributions from oilfield services, brines, and salts slightly offset by $50mm in long-term debt and SG&A expense to the extent it is not already accounted for in potash and water sales cash flows. Furthermore, this valuation doesn’t take into account IPI’s lithium opportunity, which the company has stated can be economically developed with a "relatively low cost production."

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